Why Workday has Oracle and SAP worried

FORTUNE — In business, revenge is often swift. Take the sudden firing of a poorly performing CEO, for instance. In the case of Workday, it’s been more of a slow-burn.

Founded in 2005 by co-CEOs Aneel Bhusri and Dave Duffield, Workday offers human resources software that can analyze workforce costs and manage staff pay. In a few years, the company has surged and generated hundreds of millions in revenues and has at times been profitable. In the process, Workday has found itself rivaling much larger firms Oracle (ORCL) and SAP (SAP). And, that success has been retribution of sorts for the cinematic events that led to the company’s founding.

In 2004, Bhusri and Duffield were at the helm of another human resources software firm, PeopleSoft. When Oracle chief Larry Ellison made a hostile $10 billion takeover bid, PeopleSoft’s independent board members capitulated. Disenchanted, Bhusri and Duffield left the company they had built soon after. Less than a year later, they used their own money, including $10 million of the $600 million Duffield received from the buyout and additional funds from Bhusri and Greylock Ventures, to help laid-off PeopleSoft employees and jumpstart Workday.

PeopleSoft had come along when many business applications were migrating from running off of large mainframe computers to personal computers. Years later, Workday had similar aims, but instead of having the software run on machines housed at a customer’s location, it would operate from remote, off-site servers. They believed the next great software migration would be from PCs to the cloud, and that their so-called “software as a service” could take off so long as it offered a comparable user experience, with more frequent software updates, for less cash. They predicted that demand for such software in the notoriously slow-moving enterprise side of software would skyrocket in 10 years’ time.

They were right. “I think that was a big innovation: the belief that the cloud was the right deployment model,” says John Wookey, executive vice president of advanced applications at Salesforce.com (CRM) and a former Oracle and SAP executive. Salesforce.com, another disruptive company in the enterprise software space with a cloud-based model, announced a partnership with Workday last year, tying together features like its private social network Chatter with Workday’s software.

Workday currently serves nearly 300 businesses including AAA, Aviva (CRM), Chiquita (CQB), and Fortune’s parent company Time Warner (TWX). In 2010, the company reported $160 million in billings, and in 2011, it anticipated at least doubling that to $320 million. Forrester (FORR) analyst Paul Hamerman estimates the company’s user base is now growing nearly 100% year-over-year, with half of those clients likely coming from competitors like Oracle or SAP. Bhusri has said the company could go public by the end of the year. A spokesperson did not respond to requests for comment.

Expectations for the firm have steadily skyrocketed. “Workday will ultimately dominate the Enterprise HR space at the expense of the legacy providers,” wrote Cowen and Company analyst Peter Goldmacher in a recent report. As he sees it, the service is a 100% replacement business for Oracle HR, PeopleSoft HR and SAP HR, offering a more modern feature set at a better price and a lower total cost because businesses can buy into it as a service rather than having to maintain ownership over it. “We believe enterprises will find this pitch more compelling than Oracle and SAP’s hodgepodge of M&A based solutions that still need to be integrated,” he added.

Still, Workday is a long way off from displacing Oracle and SAP’s competing HR services — both companies still serve over 10,000 clients each. But Bhusri and Duffield have definitely come up with something to worry larger firms. Though Gartner analyst James Holincheck says some businesses may not see significant savings from Workday’s services, there are many businesses who see their cost overhead shrink significantly. Chiquita, for instance, reports it will save more than 30% over five years with Workday, compared with a traditional on-site HR system, the greatest cost savings coming from not having to deal with the up-front investments of traditional software implementation and annual maintenance fees.

The larger companies are doing their best to catch up, which includes heavy acquisitions. Last December, SAP announced it would spend $3.4 billion on the human capital management software company SuccessFactors. Meanwhile, Oracle bought Taleo, which develops employee recruitment software, for $1.9 billion. Both were bought with the intent of filling in service areas, covered in part by Workday, that were previously lacking. Analysts Fortune spoke to view such moves as defensive maneuvers. That validates Bhusri and Duffield’s model. “They’ll play a good game, they know what it takes now, and they’ve certainly been there and done that,” says Steve Tennant, an ex-PeopleSoft executive. “So I wouldn’t bet against them.”